Asbury Automotive Group: Do they have a deal for you?
Root canals, first dates, colonoscopies, images of James Carville—just a few of life’s unavoidable discomforts. Interaction with a car salesman is another. Only the loneliest among us enjoy whiling away an afternoon with someone who couples a gift for oleaginous banter with an overbearing manner.
Nevertheless, whiling away we must if the goal is to acquire a new ride. Today, more of us are whiling away at chain-owned dealerships, including those owned by Asbury Automotive Group (NYSE: ABG), one of the largest new and used auto retailers in the United States.
Asbury operates 88 dealerships that spread south from New York through the Carolinas and Texas, and west to California. The network encompasses a wide swath of American, European and Asian brands, concentrated in luxury and mid-line imports such as BMW, Acura, Lexus, Mercedes-Benz, Honda (NYSE: HMC), Toyota (NYSE: TM) and Nissan (Nasdaq: NSANY). The agglomeration accounts for 68% of new vehicle sales.
Asbury’s goal is for even more people to while away time at its dealerships and to that end, it’s adding more of them to the fold. In the first half of 2007, Asbury acquired three dealerships, increasing annual revenue by $140 million. The goal is to add a few more to rev the revenue number to $300 million by year’s end.
The strategy is sensible: retail auto sales are highly fragmented, with the 100 largest automotive retailers generating approximately 17% of industry revenue. What’s more, the large capital requirements necessary to operate and compete make it likely that consolidation will continue.
The downside is that chief competitors AutoNation Inc. (NYSE: AN) and Penske Automotive Group, Inc. (NYSE: PAG) are pursuing similar strategies, which is driving up import dealership prices (Asbury’s wheelhouse).
In today’s environment, acquisitions are the only reasonable avenue for driving top-line growth. Anyone following the travails of General Motors Corporation (NYSE: GM) and Ford Motor Company (NYSE: F) knows that new auto sales are anemic at best. A residential housing recession, higher gas prices and more stringent lending practices have all extracted a toll. New auto sales—topping 16.6 million in 2006—are expected to ease to 16.3 million in 2007.
And even though it generates most of its sales with foreign nameplates, Asbury isn’t immune to sales deceleration. In the 2007 second quarter, revenue sputtered to $1.51 billion from $1.50 billion in the year-ago quarter. Growth came courtesy of used-auto sales, which increased to $395.5 million from $378.7 million, helping to offset a drop in new-auto sales to $891.3 million from $906.7 million.
Fortunately, bottom-line growth was more impressive. (And isn’t that what really matters?) Asbury’s quarterly net income rose to $20.6 million, or $0.62 per share, from $19 million, or $0.56, in the prior-year period thanks to expanding margins. On that front, new car pretax margins expanded to 1.8% last year from 1.7% in 2005. (The industry is fiercely competitive and dealerships typically post very low profit margins.) Analysts expect margins to expand further in 2007 and 2008 to 2.0% and 2.1%, respectively.
Speaking of analysts, most view Asbury favorably. In April, Goldman Sachs’ Matthew Fassler raised his 2007 EPS estimate by $0.07 to $2.24 and his 2008 estimate by $0.02 to $2.40 and introduced a 2009 EPS estimate of $2.55. In a research note he stated: “ABG continues to execute well, and results also reflect the company’s superior brand mix.” Meanwhile, he raised his 12-month price target to $31 per share from $25.
In a more contemporary note published in September, Deutsche Bank Securities analyst Rod Lache reiterated his "buy" rating on Asbury, but tempered his rating by reducing his EPS estimate for 2007 to $2.21 from $2.28, and his 12-month target price to $28 per share from $30 because “Asbury Automotive’s share price is expected to come under pressure going forward due to a weakening new-vehicle sales market.”
Investors are more skeptical. After peaking at $30 a share in May, the stock has retreated 33% and has been vacillating between $19 and $20 in the past week. At current levels, it offers a value-sensible forward P/E of nine that places it at the low end of its historical range. The dividend yield, on the other hand, resides at the high end, yielding 4.60% thanks to a recent 12.5% increase to $0.90 per share (annually).
Management plans to return even more cash to shareholders by extending its stock repurchase program. In the first half of 2007, Asbury repurchased roughly 4% of total shares outstanding. In August, the board of directors authorized the purchase of an additional two million shares.
More cash in the pockets of investors is nice, but price appreciation is even nicer. The principal risk to the latter is the economy falling into a recession, which some economists presage if the national housing market continues to deteriorate.
But that would be a short-term blip; the long-term trend in auto sales remains positive, which means over the long-term Asbury’s stock is more likely to be a cherry than a lemon.
